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IRB wins Ahmedabad-Vadodara project – Winner’s curse
IRB has emerged as the preferred bidder for the Ahmedabad-Vadodara
road project. The steep difference in the premium offered by IRB to NHAI
(~60% higher than the next closest bidder) suggests to us that the bidding
was based on aggressive assumptions. On more conservative
assumptions, we estimate an equity IRR of 9.3% (vs. management’s
estimate of 16-17%) and NPV of INR -6.6bn (INR -20/sh) at the SPV level.
Revising earnings; PT reset to INR235
We revise construction revenues by -16% and +12% in FY12F and
FY13F, respectively to factor in the new project win and delay in the
construction of two projects. We revise our toll revenues by -5% in
FY11F-FY13F to build in slower than expected toll revenue growth in
9MFY11. Our PAT estimate is revised by -20% in FY12F and +4% in
FY13F. We reset our PT to INR235 (from INR267) as we build in valuation
of the new project and revise the construction business valuation to 7x
FY13F (from 8x FY12F) earnings.
Maintain BUY as risk-reward remains attractive
IRB is trading at a P/BV of 2.6x vs. an average P/B of 3.3x over the past
three years. The stock has corrected 7% (Sensex return of +1%) since
announcement of the project win, which largely factors in the destruction
in valuation, in our view. Assuming the construction business is valued
based only on the current order book (i.e. no growth scenario), the PT
shall only be 10% lower than current levels on our estimate. We believe
risk-reward remains attractive as our PT provides 18% potential upside.
IRB adds Ahmedabad-Vadodara mega
project to its portfolio
IRB Infrastructure has recently emerged as the preferred bidder (L1) for the Ahmedabad-
Vadodara project. The project involves widening to six lanes of the Ahmedabad to
Vadodara section of NH-8 from 6.400km to 108.700km (length 102.300km) and
improvement of the existing (four-lane) Ahmedabad-Vadodara expressway from
0.000km to 93.302km in the state of Gujarat (length 93.302 km) under Phase V on a
Design Build Finance Operate Transfer (DBFOT) Toll basis. This project is very similar to
the Mumbai-Pune expressway as there is a national highway and expressway
connecting the two cities and IRB will have the toll collection rights for both the stretches.
The project awarded by NHAI has a 25-year concession period, including a construction
period of three years. According to IRB’s estimates, the EPC cost of the project is
~INR36bn, of which ~INR5bn will be for resurfacing the existing Ahmedabad-Vadodara
expressway (AVDEW). IRB would get tolling rights on AVDEW, right from the appointed
date. On NH8, IRB will be able to charge a toll once the six-laning is completed. The
appointed date is likely to be in Apr 2012.
There were 13 bidders in the fray for the Ahmedabad-Vadodara project. For winning the
project, IRB has offered to pay NHAI a premium of INR3.096bn in the first year. This
amount will increase by 5% y-y implying a total outgo of INR147.8bn over the entire
concession period.
Bid appears to be aggressive
We believe the difference in bid amount is a fair indication of the degree of aggressiveness.
In this case, the premium quoted by IRB was 62% higher than the second highest bid. The
next closest bidder (L2) had offered to pay a premium of INR1.91bn in the first year, implying
a total outgo of INR91.2bn. We understand that other bidders had quoted INR1.0-1.5bn as
premium, implying a 100-200% premium to most other bidders. Management did
acknowledge rising competition and hence the aggressive bidding. Despite the difference in
bids, management expects to deliver 16-17% equity IRR which at this stage appears
optimistic.
Management expects equity IRR of 16-17%; optimistic in our view
According to IRB management, the equity IRR of the project at the SPV level is expected
to be ~16-17%. The NPV of the project at a cost of equity of 12.5% would come to
INR8.3bn based on company estimates. We highlight three key assumptions that
differentiate IRB’s bid from others and translates into a higher IRR at the SPV level.
1) IRB’s model assumes an interest-free loan of INR7bn to the SPV from the
parent during the operation phase between FY16-20. The same is returned
back in FY31. In our view, this improves the equity IRR at the SPV level and
adds INR3.1bn to the NPV. However, this shall adversely impact the value of
the construction/parent business.
2) Vehicles plying from Ahmedabad to Vadodara have two alternative roads –
NH8 as well as AVDEW. As per the company, currently, most vehicles take the
NH8 as it is not tolled, while the AVDEW is tolled. This could change once NH8
also starts tolling from FY16. In FY16, the toll rate on NH8 is expected to be
60-70% higher than that on AVDEW. The distance on AVDEW is also shorter
by ~10 kms compared with NH8. This could prompt more vehicles to shift to
AVDEW from NH8. We understand that the assumption on a shift in traffic to
the lower tolled AVDEW is a key difference among bidders. IRB, in its model,
assumes a 5% shift for passenger cars and a 20% shift for commercial
vehicles, which implies a weighted average shift of ~15%. Our interaction with
other bidders suggests that they have assumed a much higher shift.
3) IRB expects toll collection in the first year of full operation (FY16) to be
INR5.36bn. The total toll collection over the entire concession period on the two
roads put together is INR526bn, according to management estimates. Note that in
FY11, INR1.08bn of toll was collected on AVDEW, while NH8 is not tolled
currently. Our interaction with other bidders suggests conservative assumptions
on toll collection by competition. The lower toll assumption is on account of lower
traffic estimates and a greater shift to AVDEW, in our view. It appears IRB’s toll
assumption is 30-50% higher than competition. As per the company, the total
PCU (NH8+ AVDEW) assumption is 107000 for FY16 which is much higher than
the target PCU of 93298 in FY21 mentioned in the concession bid document.
We are conservative and assign INR -6.6bn to the SPV
We incorporate the following into our model.
1) In our model, we replace the interest-free loan with additional equity infusion to
get a true picture of the SPV value. We do not build in any value destruction at
the construction/parent level.
2) We assume more conservative traffic and traffic shift to EW. We build in initial
year (FY16) PCU for both the roads put together to be ~12% below
management estimates, taking into account the maximum traffic carrying
capacity of NH8. We also assume a higher shift of 25% from NH8 to AVDEW.
Both put together, our FY16 toll collection comes to INR4.57bn, ~15% below
the company’s estimate. Total toll collection over the entire concession period
comes to ~INR400bn, 25% below the company’s estimate.
Revising our earnings estimates and PT
Earnings revised; revenue lowered in FY12F, increased in
FY13F
We revise our earnings estimate to take into account the new project win as well as the
delay in construction of the Goa-Panaji and Talegaon-Amravati road projects. According
to IRB, construction work on the Goa-Panaji project, which was expected to start in April
2011 would be delayed by another three to four months due to land acquisition issues.
Construction on the Talegaon-Amravati road project has started but there was a delay of
around three months. We also build in a delay of two months in toll collection on the
Tumkur-Chitradurg project (earlier expectation was April 1, 2011 for the start of toll
collection) which is awaiting the appointed date. Owing to the slippages in these three
projects, we are revising our construction revenue estimates downward for FY12F by
16%. Construction revenues for FY13F are revised upward by 12% as the new
Ahmedabad-Vadodara project will go into construction phase during that year.
We are revising our toll revenue estimate downward by 5% in FY11F-FY13F as we build
in a) slower than expected toll revenue growth in 9mFY11 and b) a delay in the Tumkur-
Chitradurg project. The Ahmedabad-Vadodara project is not likely to contribute
significantly to the net toll revenue in FY13 due to the high premium to be paid to NHAI.
We estimate toll revenue for Ahmedabad-Vadodara at INR1.2bn (only AVDEW is tolled)
and a premium of INR1.1bn expensed to the P&L. Overall, as a result of these changes,
our PAT estimate is revised downward by 20% in FY12F and by 4% in FY13F
PT revised to INR235 as new project valuation included
We include the valuation of the Ahmedabad-Vadodara project in our price target
estimates. The project contributes INR -20/share in our view. We also change our
valuation methodology for the construction business to 7x FY13F earnings (from 8x
FY12F earnings). We lower our PT to INR235 (from INR267). We believe the risk-reward
remains attractive as our PT provides potential upside of 18% from current levels. We
reaffirm our BUY rating.
Existing BOT projects valued at INR140/sh
We value BOT projects using DCF at a cost of equity of 12.5%. Our key assumptions
and resulting DCF values are shown in the Exhibit below. We value existing BOT
projects at INR140/sh, of which operational projects contribute INR92/sh. Note that our
earlier valuation for BOT projects was INR157/sh. The revision in value is due to: a)
disappointment in toll revenue of existing projects against our expectations; b) roll
forward of the projects to FY12F, and; c) inclusion of the Ahmedabad-Vadodara project
which has a negative value of INR20/sh, according to our estimates
Construction business valued at a discount to mid-cap peers
IRB’s construction arm takes up the EPC of the projects won by IRB. It charges 18-20%
EBITDA margin on construction projects which is high compared with the margins
booked by other construction companies (9-10% EBITDA margin). In our view, most of
the value from new projects would be captured through the construction arm.
If we compare IRB’s construction business with other mid-cap construction companies,
we note that IRB has a better backlog ratio (7x FY11F revenues vs. 2.5-4x for other
companies), better margins and better cash flows. But we also note that IRB derives
almost its entire order book internally. Thus, growth in IRB’s construction business is
contingent on new captive BOT project wins, which are uncertain. Hence, we think IRB’s
growth is limited compared with other construction companies that cater to external
clients. By extension, we believe IRB should at best trade at the same multiple as the
other construction companies, which we value at ~8x FY13F earnings. We believe IRB’s
construction arm should trade at a discount to construction peers as:
a) given the increased competitive intensity in road bids, we believe that probability of
new project wins for IRB has decreased;
b) FY13F would be an above-average year in terms of earnings, in our view, as
execution of projects won in FY10 (four projects), FY11 (one project) and FY12 YTD
(one project) would all be bunched up, and;
c) we build in INR30bn of order wins every year for IRB. This would mean that the
order backlog ratio declines quite significantly to 4.7x FY12F revenue and 2.7x
FY13F revenue, as revenues accelerate and would end up being at a similar level as
other construction companies.
Hence, we believe the core construction business should be valued at 6-8x FY13F
earnings. We assign a multiple of 7x FY13F earnings in our valuation as against 8x FY12
earnings earlier. The construction business value comes to INR30.7bn (INR 92/sh), at 7x
FY13F earnings. We do not assign any explicit value from future project wins and try to
capture it in the construction business valuation itself. Given the competitive intensity at
the bidding level, we believe value creation at the SPV level would be minimal after
paying the construction arm such margins.
Revising price target to INR235; reaffirm BUY
We value IRB using a sum-of-the-parts methodology. We value the core construction
business at 7x FY13F earnings. We value BOT projects using DCF at a cost of equity of
12.5%. We value the real estate business using DCF
IRB is currently trading at a P/BV of 2.6x vs. an average P/B of 3.3x over the past three years.
The stock has corrected 7% (vs Sensex return of +1%) since announcement of the
Ahmedabad-Vadodara project win, which to a great extent factors in the destruction in valuation,
in our view. Assuming that the construction business is valued based only on the current order
book (i.e., not attributing any future project accretion), the target price shall be 10% lower than
the current levels as per our estimate. We believe the risk-reward remains attractive as our PT
provides potential upside of 18% from current levels. We reaffirm BUY on the stock.
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
IRB wins Ahmedabad-Vadodara project – Winner’s curse
IRB has emerged as the preferred bidder for the Ahmedabad-Vadodara
road project. The steep difference in the premium offered by IRB to NHAI
(~60% higher than the next closest bidder) suggests to us that the bidding
was based on aggressive assumptions. On more conservative
assumptions, we estimate an equity IRR of 9.3% (vs. management’s
estimate of 16-17%) and NPV of INR -6.6bn (INR -20/sh) at the SPV level.
Revising earnings; PT reset to INR235
We revise construction revenues by -16% and +12% in FY12F and
FY13F, respectively to factor in the new project win and delay in the
construction of two projects. We revise our toll revenues by -5% in
FY11F-FY13F to build in slower than expected toll revenue growth in
9MFY11. Our PAT estimate is revised by -20% in FY12F and +4% in
FY13F. We reset our PT to INR235 (from INR267) as we build in valuation
of the new project and revise the construction business valuation to 7x
FY13F (from 8x FY12F) earnings.
Maintain BUY as risk-reward remains attractive
IRB is trading at a P/BV of 2.6x vs. an average P/B of 3.3x over the past
three years. The stock has corrected 7% (Sensex return of +1%) since
announcement of the project win, which largely factors in the destruction
in valuation, in our view. Assuming the construction business is valued
based only on the current order book (i.e. no growth scenario), the PT
shall only be 10% lower than current levels on our estimate. We believe
risk-reward remains attractive as our PT provides 18% potential upside.
IRB adds Ahmedabad-Vadodara mega
project to its portfolio
IRB Infrastructure has recently emerged as the preferred bidder (L1) for the Ahmedabad-
Vadodara project. The project involves widening to six lanes of the Ahmedabad to
Vadodara section of NH-8 from 6.400km to 108.700km (length 102.300km) and
improvement of the existing (four-lane) Ahmedabad-Vadodara expressway from
0.000km to 93.302km in the state of Gujarat (length 93.302 km) under Phase V on a
Design Build Finance Operate Transfer (DBFOT) Toll basis. This project is very similar to
the Mumbai-Pune expressway as there is a national highway and expressway
connecting the two cities and IRB will have the toll collection rights for both the stretches.
The project awarded by NHAI has a 25-year concession period, including a construction
period of three years. According to IRB’s estimates, the EPC cost of the project is
~INR36bn, of which ~INR5bn will be for resurfacing the existing Ahmedabad-Vadodara
expressway (AVDEW). IRB would get tolling rights on AVDEW, right from the appointed
date. On NH8, IRB will be able to charge a toll once the six-laning is completed. The
appointed date is likely to be in Apr 2012.
There were 13 bidders in the fray for the Ahmedabad-Vadodara project. For winning the
project, IRB has offered to pay NHAI a premium of INR3.096bn in the first year. This
amount will increase by 5% y-y implying a total outgo of INR147.8bn over the entire
concession period.
Bid appears to be aggressive
We believe the difference in bid amount is a fair indication of the degree of aggressiveness.
In this case, the premium quoted by IRB was 62% higher than the second highest bid. The
next closest bidder (L2) had offered to pay a premium of INR1.91bn in the first year, implying
a total outgo of INR91.2bn. We understand that other bidders had quoted INR1.0-1.5bn as
premium, implying a 100-200% premium to most other bidders. Management did
acknowledge rising competition and hence the aggressive bidding. Despite the difference in
bids, management expects to deliver 16-17% equity IRR which at this stage appears
optimistic.
Management expects equity IRR of 16-17%; optimistic in our view
According to IRB management, the equity IRR of the project at the SPV level is expected
to be ~16-17%. The NPV of the project at a cost of equity of 12.5% would come to
INR8.3bn based on company estimates. We highlight three key assumptions that
differentiate IRB’s bid from others and translates into a higher IRR at the SPV level.
1) IRB’s model assumes an interest-free loan of INR7bn to the SPV from the
parent during the operation phase between FY16-20. The same is returned
back in FY31. In our view, this improves the equity IRR at the SPV level and
adds INR3.1bn to the NPV. However, this shall adversely impact the value of
the construction/parent business.
2) Vehicles plying from Ahmedabad to Vadodara have two alternative roads –
NH8 as well as AVDEW. As per the company, currently, most vehicles take the
NH8 as it is not tolled, while the AVDEW is tolled. This could change once NH8
also starts tolling from FY16. In FY16, the toll rate on NH8 is expected to be
60-70% higher than that on AVDEW. The distance on AVDEW is also shorter
by ~10 kms compared with NH8. This could prompt more vehicles to shift to
AVDEW from NH8. We understand that the assumption on a shift in traffic to
the lower tolled AVDEW is a key difference among bidders. IRB, in its model,
assumes a 5% shift for passenger cars and a 20% shift for commercial
vehicles, which implies a weighted average shift of ~15%. Our interaction with
other bidders suggests that they have assumed a much higher shift.
3) IRB expects toll collection in the first year of full operation (FY16) to be
INR5.36bn. The total toll collection over the entire concession period on the two
roads put together is INR526bn, according to management estimates. Note that in
FY11, INR1.08bn of toll was collected on AVDEW, while NH8 is not tolled
currently. Our interaction with other bidders suggests conservative assumptions
on toll collection by competition. The lower toll assumption is on account of lower
traffic estimates and a greater shift to AVDEW, in our view. It appears IRB’s toll
assumption is 30-50% higher than competition. As per the company, the total
PCU (NH8+ AVDEW) assumption is 107000 for FY16 which is much higher than
the target PCU of 93298 in FY21 mentioned in the concession bid document.
We are conservative and assign INR -6.6bn to the SPV
We incorporate the following into our model.
1) In our model, we replace the interest-free loan with additional equity infusion to
get a true picture of the SPV value. We do not build in any value destruction at
the construction/parent level.
2) We assume more conservative traffic and traffic shift to EW. We build in initial
year (FY16) PCU for both the roads put together to be ~12% below
management estimates, taking into account the maximum traffic carrying
capacity of NH8. We also assume a higher shift of 25% from NH8 to AVDEW.
Both put together, our FY16 toll collection comes to INR4.57bn, ~15% below
the company’s estimate. Total toll collection over the entire concession period
comes to ~INR400bn, 25% below the company’s estimate.
Revising our earnings estimates and PT
Earnings revised; revenue lowered in FY12F, increased in
FY13F
We revise our earnings estimate to take into account the new project win as well as the
delay in construction of the Goa-Panaji and Talegaon-Amravati road projects. According
to IRB, construction work on the Goa-Panaji project, which was expected to start in April
2011 would be delayed by another three to four months due to land acquisition issues.
Construction on the Talegaon-Amravati road project has started but there was a delay of
around three months. We also build in a delay of two months in toll collection on the
Tumkur-Chitradurg project (earlier expectation was April 1, 2011 for the start of toll
collection) which is awaiting the appointed date. Owing to the slippages in these three
projects, we are revising our construction revenue estimates downward for FY12F by
16%. Construction revenues for FY13F are revised upward by 12% as the new
Ahmedabad-Vadodara project will go into construction phase during that year.
We are revising our toll revenue estimate downward by 5% in FY11F-FY13F as we build
in a) slower than expected toll revenue growth in 9mFY11 and b) a delay in the Tumkur-
Chitradurg project. The Ahmedabad-Vadodara project is not likely to contribute
significantly to the net toll revenue in FY13 due to the high premium to be paid to NHAI.
We estimate toll revenue for Ahmedabad-Vadodara at INR1.2bn (only AVDEW is tolled)
and a premium of INR1.1bn expensed to the P&L. Overall, as a result of these changes,
our PAT estimate is revised downward by 20% in FY12F and by 4% in FY13F
PT revised to INR235 as new project valuation included
We include the valuation of the Ahmedabad-Vadodara project in our price target
estimates. The project contributes INR -20/share in our view. We also change our
valuation methodology for the construction business to 7x FY13F earnings (from 8x
FY12F earnings). We lower our PT to INR235 (from INR267). We believe the risk-reward
remains attractive as our PT provides potential upside of 18% from current levels. We
reaffirm our BUY rating.
Existing BOT projects valued at INR140/sh
We value BOT projects using DCF at a cost of equity of 12.5%. Our key assumptions
and resulting DCF values are shown in the Exhibit below. We value existing BOT
projects at INR140/sh, of which operational projects contribute INR92/sh. Note that our
earlier valuation for BOT projects was INR157/sh. The revision in value is due to: a)
disappointment in toll revenue of existing projects against our expectations; b) roll
forward of the projects to FY12F, and; c) inclusion of the Ahmedabad-Vadodara project
which has a negative value of INR20/sh, according to our estimates
Construction business valued at a discount to mid-cap peers
IRB’s construction arm takes up the EPC of the projects won by IRB. It charges 18-20%
EBITDA margin on construction projects which is high compared with the margins
booked by other construction companies (9-10% EBITDA margin). In our view, most of
the value from new projects would be captured through the construction arm.
If we compare IRB’s construction business with other mid-cap construction companies,
we note that IRB has a better backlog ratio (7x FY11F revenues vs. 2.5-4x for other
companies), better margins and better cash flows. But we also note that IRB derives
almost its entire order book internally. Thus, growth in IRB’s construction business is
contingent on new captive BOT project wins, which are uncertain. Hence, we think IRB’s
growth is limited compared with other construction companies that cater to external
clients. By extension, we believe IRB should at best trade at the same multiple as the
other construction companies, which we value at ~8x FY13F earnings. We believe IRB’s
construction arm should trade at a discount to construction peers as:
a) given the increased competitive intensity in road bids, we believe that probability of
new project wins for IRB has decreased;
b) FY13F would be an above-average year in terms of earnings, in our view, as
execution of projects won in FY10 (four projects), FY11 (one project) and FY12 YTD
(one project) would all be bunched up, and;
c) we build in INR30bn of order wins every year for IRB. This would mean that the
order backlog ratio declines quite significantly to 4.7x FY12F revenue and 2.7x
FY13F revenue, as revenues accelerate and would end up being at a similar level as
other construction companies.
Hence, we believe the core construction business should be valued at 6-8x FY13F
earnings. We assign a multiple of 7x FY13F earnings in our valuation as against 8x FY12
earnings earlier. The construction business value comes to INR30.7bn (INR 92/sh), at 7x
FY13F earnings. We do not assign any explicit value from future project wins and try to
capture it in the construction business valuation itself. Given the competitive intensity at
the bidding level, we believe value creation at the SPV level would be minimal after
paying the construction arm such margins.
Revising price target to INR235; reaffirm BUY
We value IRB using a sum-of-the-parts methodology. We value the core construction
business at 7x FY13F earnings. We value BOT projects using DCF at a cost of equity of
12.5%. We value the real estate business using DCF
IRB is currently trading at a P/BV of 2.6x vs. an average P/B of 3.3x over the past three years.
The stock has corrected 7% (vs Sensex return of +1%) since announcement of the
Ahmedabad-Vadodara project win, which to a great extent factors in the destruction in valuation,
in our view. Assuming that the construction business is valued based only on the current order
book (i.e., not attributing any future project accretion), the target price shall be 10% lower than
the current levels as per our estimate. We believe the risk-reward remains attractive as our PT
provides potential upside of 18% from current levels. We reaffirm BUY on the stock.
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